International Implications of the Citigroup Bailout

The Citigroup bailout was a good deal for Citi shareholders (who wouldn’t appreciate a big transfer from the taxpayer during this holiday season?) and a great deal for Citigroup management. But it also has three global implications that perhaps have not yet been fully thought through.

1. The Citi deal shifts pressure from US financial institutions, at least for a while. But to the markets it raises the question: who or what is next? And the indications again point to the eurozone. Credit default swap spreads indicate increasing differentiation between Germany on the one hand and, say, Greece (or Ireland or Italy or Spain) on the other hand. I don’t want to single out Greece, but the recent IMF Article IV Report has some very interesting debt path simulations (the report’s Figure 3) – if you update these in the light of current global circumstances, you can see why Greece may well need a bailout before too long (remember: their government debt is in euros and cannot be inflated away, unlike in the US or UK, for example.) The market view is that some European governments could not really afford the generous bank bailouts they provided in October.

2. For all the increased discussion among politicians and academics about reforming the global system, to preempt the next crisis, why would the most powerful people on Wall Street want this? The Citi deal shows that the clout of the US financial industry has, if anything, actually increased over the past eighteen months. “Wall Street owns the upside and the taxpayer owns the downside” is an old saying which seems more appropriate now – and on a bigger scale – than ever. There is no harm in proposing changes to deficient national regulatory systems and international, rather creaky, Bretton Woods structures. But strong forces just found out that these structures are completely compatible with rather juicy bailouts (and there may be more to come), so don’t expect rapid or meaningful real reform.

3. If we are now at the next stage of bailouts and of figuring out who can afford to do the bailing, then existing resources – in and around the IMF – for helping emerging markets are really not enough. The G7’s strategy proposal to emerging markets is clearly: “finance, don’t adjust (much),” i.e., keep on growing one way or another. This might or might not be a good idea, but it will only work if backed by enough official loan support when needed – this is what many countries will need to sustain a current account deficit or offset capital outflows and keep growth on track. IMF available resources, even with the recent loan from Japan, are only around $200bn. You really cannot save many banks/countries with that amount of money these days – the IMF lent over $40bn this month alone.

7 responses to “International Implications of the Citigroup Bailout”

As long as the federal government is throwing so much money around, it may as well match Japan’s effort and contribute $100 billion to the IMF. After all, if the funds contribute to the lessening of the global crisis, this country will see great benefits from that.

Furthermore, contributions from Japan and the U.S. will put the spotlight on China, which has tremendous reserves, to do its part.

The recent attack on Citi shares was not random. It was precipitated by the recent and sudden collapse of the CMBS market. Citi is generally understood to hold a very large portfolio of commercial real estate loans on its books and off-balance sheet. Given Citi’s weak management, large size, large off-balance sheet holdings and opaque financial statements, it is not surprising that Citis shares collapsed so quickly. While other banks are equally opaque, most banks have a greater reserve of trust in management to draw upon in a crisis than Citi had.

Re point 2: Counterparty risk is compelling all major market participants to demand some form of global regulation. In the current environment no one can trust anyone who is not covered by a government guaranty. Aa a result, markets are locking up. To free up markets and ultimately restore trading profits, greater global regualtion is required, will be tolerated and even welcomed. The real question is whether national governments are willing to lay aside petty provincial issues and create an effective regulatory structure.

Not surprisingly, Vikram Pandit has spoken out for global regulation to avoid regulatory arbitrage and the hodge podge of national regulatory schemes that global banks must navigate.

When all this speculation will de-accelerate? So far the strategists to save the world economy have been based on speculation. Example: Let’s safe Citi to see if the markets stabilize, let’s inflate grow to get us out of the debts, let’s see how can we bailout the emerging economies and see what happen. It looks like if what governments and economist wants is that the mainstream continued getting more in debts. Nobody has talk about save neither for the government, nor for the consumers. Where is the balance here?